>> i don't know whether the boats scheduled the second will come off or not. for those who are thinking about tomorrow, we have a hearing scheduled for tomorrow. we will make a decision about that very soon because we have witnesses lined up. one thing we are considering is moving the hearing tomorrow until the next day and light of the threat of additional snow. this afternoon and through the evening and into tomorrow is when it will happen. if we get another 10-12 inches it might be very difficult for witnesses to get here. i am fortunate because i live about 10 blocks away. i can always get here. i want to thank the witnesses. this is an important hearing on the economic outlook for the federal budget and debt. we're joined by an extremely distinguished panel of witnesses, dr. carmen rhinhart.

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welcome. good to have you here. dr. simon johnson, professor and entrepreneur shik/ atí@ mit an institute for international economics. he has appeared before this committee in the past for it we always enjoyed his commentary. and his testimony. dr. donald marin from georgetown and a former acting director of the congressional budget office. always good to have you back for the committee, as well. he has served in a very distinguished way in the congressional budget office. we have always been indebted to him for his service there. this is dr. rhinehart's first appearance before the budget

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committee and we want to make her feel at home. dr. johnson and dr. marin are both well known here before the committee. as the title of our hearing suggests, we will focus on the nation's economic outlook and the rest we are facing that could affect the outlook, the federal budget, and the nation's debt. i would like to begin with a brief review of our economic situation. i think we all know that when a president obama took office, we were in the midst of one of the worst recessions since the great depression. the president moved quickly to follow up on the steps that have been taken by the previous administration to avert an even sharper economic decline. those policies, i think, are clearly working for the actions taken by the federal government or the last year have clearly helped pull us back from the brink. we have seen a dramatic turnaround in economic growth in

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the first quarter of last year. it was a -6.4%. but last quarter of last year, it had improved to a positive 5.7% growth. it is important to say that none of us anticipated that that level of economic growth will continue. many of us seek a more tepid level going forward. we have seen a steady improvement in the jobs picture. according to the estimates we received last february -- last friday, in general lester, the economy was losing more than 800,000 private-sector jobs in one month. that was up from a previous estimate of 700,000. looking back, we can see that in january of last year, the job loss was running about 800,000 per month. by this january, the economy was losing about 12,000 jobs in one month. that is a dramatic improvement but still short of where we need

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to go in terms of dramatically reducing unemployment. i must say that all of these numbers, to those who are suffering the consequences of a weakened economy, their numbers on a page. if you are someone who is unemployed or cannot find sufficient work or are underemployed, these numbers are cold comfort to you. it is important to realize that things are improving, at least the freefall that we are in has been stabilized and we are starting to move back in the right direction. according to estimates we received friday, the unemployment rate did fall to 9.7%. that is still far too high. last year's recovery package is still providing stimulus. we know that the impact on economic growth probably peaked during the third quarter of 2009. according to an estimate from goldman sachs, the recovery

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package provided 3.3% of the increase in real gdp at its peak during the third quarter. following the third quarter, the contributions to growth from the recovery package start to diminish. given the high unemployment rate, the continuing concerns about the economy, and the fact that they impact of the recovery package has started to wane, i'd think it is appropriate for us to consider additional job creation measures at this time. i would like to hear from our witnesses, their views on the benefits of enacting such measures at this time. the economic downturn and the federal response to it has contributed significantly to the worsening of our budget out loud. this is the other side of the picture. in the short term, measures that were taken to stabilize the economy and stop a precipitous collapse, have been affected.

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we know there is a price to be paid and the price to be paid is increases to our deficits and debt. this chart depicts the projected deficit under president barack obama's proposed budget over the next 10 years. it shows the deficit coming down from a high of $1.56 trillion in 2010 to $706 billion in 2014 and then slowly resuming its climb back to $1 trillion in 2020. i have said before that i can understand increases and deficits and debt in the short term to deal with an economic weakness and to prevent economic collapse but i am increasingly concerned about the out years. we're 0(ñ on an unsustainable path. i'm concerned that the president's budget does not focus sufficiently on our long-

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term need to deal with the debt threat. athe nation's debt outlook is even worse, particularly over the long term. the fact is, we are on a completely unsustainable course long term. i personally believe we need a two-prong strategy going forward, one for the near term, one for the long-term. in the near term, i believe we must emphasize policies that encourage job creation in the private sector. for the long term, we must give it to control our debt. the economic security of our nation depends on it. with that, i will turn to senator sessions for any opening remarks he might want to make and will go to our witnesses and we will have a chance for questions from the panel. again, senator sessions, thank you so much for being here. it speaks very well other man from alabama to be here with the

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weather conditions we are currently experiencing in this city parade in north dakota, no big dea. i am sure in alabama this would. be an all-out emergency. >> it is fine for me. i walked around and saw the beauty of the snow. it is really a stunning sight. it causes difficulties for travel. >> if you like the beauty of the snow, i would like to invite you to north dakota. [laughter] any time in january or february of next year, maybe spend all of january and february. >> maybe we can invite you south would be a better idea. thank all of you for coming and i look forward to your discussion. i, frankly, don't know how well our actions worked after the collapse in the financial markets.

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those who supported it, promoted it, funded it, ran it all tell us that if we had not done it, we would be so much worse than we are today. forgive me if i am not sold. i just believe that a lot of things had to be done. i supported a number of things but the fundamental actions that we took were troubling to me. we know we had to act and the congress had some things that we needed to do. i am troubled by it all. tarp -- $700 billion had to come in before the asian markets opened the next morning, they told us. when president bush left office, he had not spent half of it yet.

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one man was allocating $700 billion. 4 give me if i am uneasy about that. that $700 billion was distributed in ways directly contrary with what congress was told her we were told it was about toxic assets. in one week, there were buying stock in companies, insurance companies, then by an automobile companies. just forgive me if i am not happy and the american people are not happy. second, the stimulus package, the $787 billion, is now $840 billion because we are spending more under the commitment we made in intended when we passed it. i think it has produced little. in fact, i think it is one of the great tragedies in the history of the country that we have gotten so little out of

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such an incredibly large expenditure, the largest single expenditure in american history. i don't think it has gone very well. i don't think it has created jobs they projected it would create, even. the bill that some of us supported for half the cost, according to christina romer's analysis would have created twice as many jobs and have the debt impact in our country. we have some serious problems. one thing that happens with budgets that the cbo might be aware of. most americans are not part of the only year that really counts is the year you were in.

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the year we are in, for as a result of the stimulus package, like a house version that he praised the state of the union, it has $100 billion more. he is counting 170 billion in the next 10 years but he is not counting the $100 billion this year. it is a violation of last year's budget. we will have to have vote sufficient to raise the spending levels through emergency designation, i guess, to spend that money this year. i guess what i am saying is that what i am hearing from the incumbent administration that concerns me is is it is always next year, next year. we have to do all this this

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year. we will not worry about how much debt is being run up this year. we will worry about it next year. the chart you put up, mr. chairman, is, however, the budget that they are sorting. we have to. reduce the to -- we have to reduce the budget. the democrats are saying to take the budget we passed last year and follow those numbers. that was basically to% increase over the next five years but we did not get the 60 votes necessary to pass it. that would have been a real step, i think, to help us send a message to the whole world and the american people that we are going to contain discretionary spending, at least, for a while. mr. chairman, you have discussed how we can reduce our entitlement spending. we have to act.

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i hope to look forward to hearing from you. the american people are unhappy with us. they're not happy with us. unemployment is high for the numbers were not good as last week. another 20,000 increase in unemployment and i think it takes about 800,000 increase to begin to reduce the number, the total unemployment number. i am really worried about unemployment. we want to have growth and ñ=rhopefully, we can. mr. chairman, thank you. i'm sorry senator gregg is not here. i know he has difficulty getting here. i know you and he had worked on a number of issues that i hope to be able to work with you, too. >> thank you, senator. thank you for being here. we will now turn to the witnesses. dr. carmen rhinehart, professor

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of economics at the university of maryland. it is timely for you to be given developments on the international front. please proceed with your testimony and we will go to dr. johnson and dr. marin. >> thank you anmembers of the committee for the opportunity to comment on the u.s. economy and the budget and the debt. & department of economics at the university of maryland. i suspect that i was invited here today because for more than a decade, my research has been focused on various types of financial crises. that includes the fiscal implications and other economic consequences. one of the main lessons of emerging from this work is that across countries and over time, severe financial crises followed

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a similar pattern. in a paper written over one year ago with my co-author, we examine the depth and duration of the slump that invariably follows financial crises. the recession's following severe post-world war two crises tend to be protected affairs. asset market collapse were deep, prolonged and realizing -- housing prices declined at least 35% for this decline stretched out over six years. equity prices collapsed on an average of 55%. the recovery from the bottom was quicker. to put it in context, in the present downturn here in the united states, a real housing prices have already fallen 36% from their february, 2006 peak.

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not surprisingly, banking crises are associated with profound declines and output in employment. the unemployment rate rises an average of 7% over the down the face of the cycle. it last an average of four years. we are following this tractor the u.s. unemployment rate bottomed at 4.4% in december, 2006, about six buns before the crisis broke. at its recent peak level, in october, 2009, the unemployment rose 5.7%. historically, these conditions produced a budget deficit. correspondingly, )@@@ @ u@ rr'áz

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financial crises, which includes the united states and united kingdom, the average debt levels are up by about 75%. this is even in countries that have not had a major financial crisis, that rose an average of 20% in real terms between 2007 and 2009. our main focus is on the longer term macroeconomic implications of much higher public and external debt. we examined in this work, the experience of 44 countries, spending up to two centuries of data on central government debt, inflation, and growth. ain findings is that across advanced countries and emerging markets, high debt to gdp levels, debt levels, gross debt about 90% are associated with

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notably lower growth outcomes. above 90%, median growth rates fall by 1%. average growth rates fall considerably more. in addition, for emerging markets, there appears to be a tighter threshold for external debt, a lower threshold so that when external debt reaches 60% of gdp and the growth decline by the about two% and for higher levels of debt, growth is cut about in half. our international and historical experience shows that seldom do countries simply grow their way out of their debt burdens. there are also household thresholds of debt near 90%. the exact mechanism is not certain, we presume that at some point, interest rate premiums

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react to unchecked deficit to, forcing governments to tighten fiscal policies. higher taxes have an especially deleterious effect on growth. we suspect that growth also slows as governments turn to financial repression to place debt at sub-market interest rates. there are other vulnerabilities associate with debt buildup that depend on the composition of the debt itself. one common mistake is that the sources for government could play the yield curve, shifting to cheaper, short-term debt to economize on interest costs. unfortunately, a government with massive short-term debts to rollover its ill-positioned adjustment does not work. even aside from high and rising levels, many advanced countries,

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particularly in europe right now, are saddled with extraordinarily high levels of externalv debt or debt issued abroad by both the government and private entities. in the case of europe, the advanced country average exceeds 21% of gdp. -- 200% of gdp. in private debt, u.s. debts exceed 300% and they are at their highest level since 1916 or the historical statistics of the united states beginyf/imoo record this data. current high private domestic and external debt burdens would also seem to be an important vulnerability to. to monitor. downgrades follow desperate given these risks of higher government debt, how quickly should governments exit from

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fiscal stimulus? this is not an easy task, especially given weak employment in the united states and elsewhere. in light of the likelihood of continued weak consumption in the u.s. and europe, rapid withdrawal of stimulus could easily tilt the economy back into recession. to be sure, this is not the time to exit. it is, however, the time to lay out a credible plan for a future exit. the sooner our political leadership reconciles itself to accepting adjustments to lower the risk of;çñ truly paralyzing debt problems down the road, the likes of which we are seeing in europe right now. although most governments still enjoys strong access to financial markets at very low interest rates, market discipline can come without warning. countries that have not laid the

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groundwork for adjustment will regret it. this time is not different. thank you. >> thank you for your excellent testimony. we'll go to dr. johnson next and then dr. marin and we will open one year ago, i was before this committee and i came to the conclusion that we faced a pretty tough year. i think that discussion turned out to be exactly right. my recollection is that we discussed contraction in the global economy for the first time since world war two, roughly around 2% on a year- over-year basis. the latest number for 2009 is eight -0.8% decline. we are exactly the right place. at this stage, we should discuss the recovery. when you have a sharp decline,

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you have a fairly rapid recovery. the numbers that you showed us for the fourth quarter of last year are encouraging in that direction. i am worried about the dynamics that we face during this year. i think there is a great deal of volatility ahead, some of which is domestic for the reasons that professor rhinehart was talking about and some of the global origin. while the headline numbers of this year, the year over year average numbers will indicate a modest recovery if you look at the fourth quarter on fourth quarter numbers, look with in 2010, you will see something quite different. in the second half of this year, i think there will be a slowdown. i am not suggesting that we will have a double dip recession. i think that the pace of growth is slow and the pace to come back will be slow and i think

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this is a major concern for the budget and for job creation. my overall projection on the fourth quarter on a fourth quarter basis is that the global economy will grow around 3%. traditionally, that is where the imf would draw the line on global recession. they have moved the goal post over the last couple of years. the 3% global is fairly slow. this rate will be held up by what is happening in emerging markets. we can probe to what extent that is sustainable beyond 2010, if 5the weaknesses in the u.s. economy are well known. the consumer income is weak and they have a substantial debt with an overhang in housing prices.

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asset prices, based on the particular global picture, will remain volatile houses do not feel that wealth has gone back up matching the recovery in stock prices. n9xal will not leave this recovery. investment may be stronger but are issues of credit availability for the small business sector, this component of volatile demand is not big enough to pull the u.s. back to the kind of growth you might want. in addition to that, net exports, which has been a brighter part of the picture in the united states over the last 12 months, is likely not to be so strong over the next 12 months. the fiscal stimulus continues butted in packs as growth -- but it impacts as growth weakens but we should expect the federal reserve to withdraw support as we go into this spring despite the weakness of the economy and despite the high unemployment.

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this is what the fed is very clearly indicating. this adds up to a difficult second half that is not the worst part of the picture. the worst part is i am afraid that a serious crisis is brewing in western europe. there are many people who claim that this time is different. i would apply the conclusions that greece has a serious sovereign debt problems. these issues are spreading to portugal and spain. there may be implications for ireland and italy. there's a great reluctance on the part of the stronger european countries to help the weaker european countries. basically, they don't have an institutional mechanism in place. they will not, in my assessment, bring in the international monetary fund.

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i will be happy to expand on the procedures behind that assessment. put all this together and you're looking at a substantial shock to government credit. you'll see this in interest rates and credit defaults swaps spreads. ñ'the big unknown in this pictue is what will happen to the financial sector. we still have too big to fail banks. we can reasonably argue that as we wait for financial reform to come through, this problem has not been addressed. it has gotten worse. the europeans have it -- have this problem on a much larger scale. they're big banks are bigger relative to their economies. some of these big banks are in small economies that cannot sustain, from a fiscal point of view, and additional big financial shock. switzerland has two mass of banks with assets and

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liabilities roughly six or seven times the gdp of switzerland parted we can argue about the right medicare but if the bank fails, -- about the right metrics but if the banks fail, that will not be a good situation. there's a mass of contingent liability. it is the same on our balance sheet. it is right to stress that the experience where you asked to derive money for toxic assets to buy shares in banks and other companies, i don't think that is off the table. in europe, i fear it will come back to haunt us in the united states. that continued liability is very big. i would say is at least 40 percentage points of gdp. if you follow the professor's

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book, that bears that out. it is hard to say how this will spread to the financial system? some of it will spread to the credit defaults market. it is completely opaque and has not been addressed the problems have not been addressed since the crisis of 1998. these all had fiscal implications. in conclusion, i would like to reinforce what the senators have said and the professor has said about the necessity of the framework. i think you do not want to have fiscal austerity member that would not be the right measure. if you're swings into this mode, that would be bad for growth. the euro will weaken any way in my assessment anyway. they and we need an exit strategy and a framework that tells you how entitlements will be handled over a 15-year from work and what the tax base is

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and what the gap is between those. when you said the debt has to be controlled, you are absolutely right. japan's sustained as for a long time but this is catching up with them in the last 20 years. most of the debt is held domestically. a large amount of our debt is ú

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as this committee and its members are aware, our nation is on an unsustainable fiscal path. we will run $1 trillion deficit in the years ahead even after the economy recovers. persistent deficits and rising debt will undermine prosperity and weaken our position in the world. those threats deserve immediate attention but as this committee is well aware, our economy remains fragile. payroll employment has fallen by 8.4 million jobs since the beginning of the recession and unemployment levels are record highs. we had strong gdp growth in the fourth quarter but the economy has a long way to go. you face a difficult challenge of balancing concern about current economic conditions with a meaningful response to our fiscal crisis. the first point i want to make

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is that we should not expect a rapid recovery. it is a good sign that the economy grew in the last quarter of last year but for a whole host of reasons, i would not anticipate that to continue. we're in our recovery path but it is a moderate or modest path. second, uncertainty is one factor that has been holding the economy back. uncertainty discourages investment and hiring and undermines a growth. put yourself in the shoes of someone to -- who might make an investment or hire someone. the good news is that economic concern has gone down dramatically. the economic environment has improved and is more conducive to grow pretty bad as that policy uncertainties are high. some of your constituents are met with you and i spoke to some business people and many of them

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are upset about the uncertainty. they do not know what is happening with tax policy or health care in addition to what they don't know what is happening with theb economy having worked in government for a long time, i understand that these uncertainties exist but i think there are opportunities to get rid of unnecessary uncertainty and to give people more clarity about what the future hold pretty extreme example would be what is happening with the estate tax which is a personal thing. there are many other examples on the tax side. number 3, persistent deficits and rising debt poses serious risks to long-term growth. concerns about the near-term economic outlook should not deter congress from taking steps to strengthen our fiscal position over the next decade. fiscal consolidation should not take place immediately. congress should begin now to plan for deficit reduction and stabilization in later years.

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we need an exit strategy and that include clear goals and credible means for achieving them. president barack obama outlined some steps in that direction in his budget but i feel they fell short of what is required. vgxsto address that concern, the president proposed the creation of a fiscal commission that log up until 2015. first, i don't think the target is aggressive enough. it would have the effect of stabilizing jet -- debt to gdp. my own personal preference would be to see it come down to a number by 60% of gdp. i would like the target to be more aggressive. the institutional procedures of the proposals are troubling.

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in natural -- a natural -- a national statutory commission i have concerns about whether a statutory commission can get there. i would look for something that has the power where everything would be onwc÷ the table. i am troubled when some people say that social security should be off the table and tax revenues. i think if we try to address the fiscal concerns, you need to look at everything. i am looking forward to seeing with the details of that corporate we need an exit strategy, definitely fourth, bringing long-term to the present day, a credible plan to reduce future deficits is not just about the future. if we do it well, it will help keep long-term interest rates low today. that will help the recovery. fifth, g restraints.

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that should receive greater emphasis because spending is the primary driver of our budget balanced and higher government spending retards growth. as policy-makers consider how to finance a larger government, they should give special attention to figure out ways to make our tax system more efficient. think about ways to tax consumption rather than income. think about ways to broaden the tax base rather than increased rates. the about ways to tax undesirable things like pollution rather than desirable things like working. thank you. >> excellent testimony, all three,mwi just terrific. i appreciated very much. let's go right to it. this committee has special responsibility to our colleagues with respect to the budget and it is hard to find a time in our entire history, since the budget

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committee was formed, when budget policy can have such a profound effect on economic issues and economic growth and all the breast. so, dr rhinehart, you have this responsibility -- if you have this responsibility, what would you pursue? short term, long term, with respect to deficits and debt with keeping your eye on the effect on the economy. what would you advise this committee to do short-term and long-term? >> let me begin by saying that in my remarks, i highlighted that i think this is the time to lay out a credible plan for deficit and debt reduction but it is not the time to start

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implementing that. i would like to elaborate on that remark especially as it pertains to the experience of other episodes including here in the united states. in which victory was declared prematurely and stimulus was withdrawn. this was the case in japan which has had a decade-long lingering crisis. this was the case in the great depression. my work as documented these episodes. that risk is one that should be borne in mind and that is what i stress the credible path. the credible path, i think, we could benefit from looking also at the experience of our neighbor to the north, canada in

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the mid-1990's which implemented very significant debt reduction programs. >> what was the result? >> the result was, i would describe it as a three-fold. one was they achieved their intended goals in bringing their deficits and their debt, the canadian debt profile, that has been reflected in their risk premia which had risen and was moving in tandem with the emerging markets by the mid- 1990's. >> higher interest rates? >> higher interest rates, higher debt servicing costs. more volatility. let me add that a second element of their program was also, which i highlighted briefly in my

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remarks, is paying a lot of attention to how when you have a lot of debt, how dead is managed. d and reducing their reliance on short-term debt end their currency issues. >> dr. johnson, same question to you. what would your advice be to this committee, short-term and long-term? >> i am not a fan of fiscal stimulus i testified before this committee more than one year ago and i said that it was only the extraordinary circumstances due to the collapse of our credit system and the other problems that led me to suggest that we should have a stimulus around $500 billion. roughly speaking, i think we wound up in the same ballpark. i would hold back again from

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further stimulus. i think we need to see what happens. within the menu that the correctional -- congressional budget office assessed for you, addressing payroll taxes, if we comecw that, may be an appropriate approach to consider. i am not ready to do that. in terms of the short term, i am not advocating for stimulus at this time buried in the longer d5lg > is an important one. dr. marin hit the key points like not leaving anything off the table. this is not a call for fiscal austerity immediately. i fear that may happen in europe which will have a negative impact on the global economy. that should be avoided. i am calling for them to not do that in europe and by the ways to help themselves. i think that the fiscal commission addresses the colmes of our debt where the project three -- where the trajectory is

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going. everything should be on the table. that is absolutely critical if you have a credible medium in the united states now, you would have a lot more room to maneuver on short-term measures. i might even right now call for a reduction in payroll taxes if we had a media from work but we don't. that is dangerous. >> you are, in some ways, linking the two in your mind. it would be more credible to do something with respect to payroll taxes, to provide additional lift to the economy if you had some credible process in place to deal with a longer- term debt? >> absolutely. fiscal stimulus is something we have moved away from in industrialized countries in the last 20 years because it comes with a lag. it tends not to hit the economy as you hoped. and also when you open.

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-- and also when you hope. if you can persuade everyone that you're dead is not on an explosive path and you have the legislative or other institutional mechanisms in place that this is not a big promise -- the british government faces huge problems because of their commitment on the fiscal side which are not credible. we don't have that problem the in the united states, yet. you need a fiscal commission to make sure that goes forward. >> doctors marin, same question to you. your responsibility is to advise this panel, short-term and long- term, what with that advice be? >> starting with the long term -- what i would personally like to see is a numerical target that lays out in the latter part of the budget what we want to accomplish and what you should

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-- and what it should be. we should not just make up numbers. you should say something like you want to cap the growth of debt to gdp at like 72% in 2013. >> can i interrupt? you went to an alabama school? that is an excellent school. the lady in the front row is wearing a hat with a big "a" on it. as a great school. >> in north dakota, we make that same claim. >> you have a comparative team and we usually lose to them in the playoffs. thank you for coming. >> thank you. >> i had a hard day and this know you're probably enjoying it. sorry to interrupt you. >> no problem at all.

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>> 70% of the debt to gdp ratio in 2013 is a goal. >> 70% by when? >> and then 60% by the end of the budget window. the peterson commission put out

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we are not in as bad a shape as japan, debt to gdp. we are not in as serious a shape as parts of western europe that confronted debt crisis today but it is very clear that we could, in very short order, confront our own debt crisis and the consequences to this country would be enormous. i wish it were not so. i wish it were not so. if you study the trendline that dr. marin and dr johnson, and doctors rhinestone, if there's anything that jumps out to you 10 years and out, we are really facing consequences that could have enormous adverse impact on

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this nation's economy. do you agree with that statement? >> absolutely. >> what leads you to that conclusion? i said something that in some circles is very controversial. why do you think that is true? >> this is something i have relied on the research of my colleagues. if you look at history where this has been experience in other countries, getting a path ends in tears. it is something where we remain foot the cost about as a beneficial thing to do. we have not covered all the reasons for iit. there might be a snowball effect and you have yourself a much worse a circumstance. our ability to borrow is our rainy day fund. we have used up -- it has been raining so he had used a lot of

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that opportunity walked that back down so if something unforeseen happens eight years from now, you can go to the world capital markets again and borrow more money. you lose that flexibility if you do not get a more sustainable path. >> i have used my time dirty cinder sessions? -- i use my time. senators sessions? >> i disagree with that last statement. there is almost too much margin you have a crisis and we are using that up today as if we will never be another crisis. i am a little disappointed that you seem to be going along with the idea that we cannot begin to ask about spending now. i just do not believe that we can afford to throw another $270 billion of stimulus package when we have so little from the one

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that we have done dr. johnson, you said you recommended $500 million but it is $845 billion which is quite a bit over, in my view. we have used this margin of. i would criticize the thinking during the bush administration. word leaked out that deficits don't matter. that is what it seems. >> not from me. >> it did and mr. greenspan has talked about that, actually. he did not realize what was occurring politically and morally in the country, what was happening was we were losing our discipline and people were buying into that language. yes, we could have carried more debt in 2001 and 2002 but was

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used -- lose your discipline, it seemed like we went forward as it did not matter and we are now reaching this level of debt above which we are endangering our nation if we go above. i'm just really word about it. dr. marin, you mentioned one thing that is important and i need to put on the table, economists, masters of the universe, i call them, think they could pull the strings to manipulate this massive economy and that is a lot of us and a lot of american people do not believe in a growing government. you mentioned that in your remarks about. that about if we get a bigger government. many of us oppose that. we don't believe in that. some modest contentment of

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spending today may be not enough to satisfy my concerns. and doctors rhinehart, you read commentators and the essence of a lot of things you see in financial magazines and newspapers and articles in all this, a concern the real world out there where people are buying and selling and loading money -- following monday is that it could lead to the devaluing of the currency and a surge in debt can lead to a difficulty like the brits have had in selling their debt and could drive up interest rates and a flight to currency. one man called me after a speech last week when i was expressing concern about the debt, he said that we will inflate our way out of it. that is what we always do and don't worry about it. would you share with us any

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thoughts you have about the danger of that kind of thinking? is that a danger? >> i think the danger -- there are two kinds of danger that i would like to highlight. one is one what i mentioned about higher risk. that will translate to higher interest rates which we are taking for granted the very low, near-zero interest rates and we should not take that for granted. we are on the same line. the second risk i would like to highlight which i briefly mentioned in my remark is the growth. one has to take seriously that at high levels of debt, and we are close to the gross debt being at that 90% threshold 3 we are close to it.

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growth declines by about 1%. this is a fairly robust results. lower potential output growth in and of itself is absent and a source of concern. a weaker dollar would not hurt us. one of the things that has been a drag on this recovery from the crisis is that of one looks at the typical recovery from such a crisis, exports and other episodes, we have not had the benefit because a good chunk of the rest of the world is in crisis and in part because the dollar has not really, relative to other experiences, budged. my concerns have to do with the interest rate, the risk, and with the growth of what happens to the dollar.

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it has been known to go up and down. there is less of a lesson there as far as i can make it. >> dr. johnson? >> i think the situation is considerably worse than you might think. first of all, the debt numbers we are discussing, our federal government debt and if you look across the country, usually the imf procedures are for general government debt which involves other levels of government and that would increase the debt target in dr. marin's target and pushes closer to the dangerous threshold that profess rhinehart mentions. the taboo subject is fannie mae and freddie mac. the imf would say to you if they

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were in a position to speak to the united states, they would say that unless you show was a plan for privatizing these entities which have been talked about, we have to start thinking about these as liabilities to the u.s. government. they hold assets. i would not exaggerate losses but if you're talking about debt owed by the public sector, fannie mae and freddie mac would enter into that picture. . .

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>> if those banks fail, they will come to you and say that we thattarp -- that we need tarp 2. i just spoke to the banking committee last thursday, but i think this is a budget issue -- a contingent liability of this magnitude, an important -- and avoidable one -- reforming medicare is a big thing and we have to discuss that and the tax base to support paying health care for people over 65. but contingent liability of the banking system is largely avoidable if you take it on and regard as a budget matter. i think that's a major step in the right direction.

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>> i would like to welcome the kids from montgomery, alabama. we are glad this group could join us this morning as we're talking about things, mr. chairman, he said earlier, that will affect how much they have to pay growing up. >> on this question of fannie mae and freddie mac, my understanding is is in the cbo numbers and not in the other numbers. our determination was we would follow cbo because we think it has to be on budget. if you cannot say this is somewhere off in the wilderness, not accounted for. we have made a determination that would be included in the numbers. >> but that has not been in the

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past. >> it was not in the past. >> thank you for that decision. >> my understanding is that they have larger numbers in the deficit for the conservatorship of fannie mae and freddie mac, but when you look at their publicly held debt numbers, they have not gone up yet if i understand correctly. they have taken a step, but they have not gone quite as far as dr. johnson would suggest. your question was about inflation and the concerns our fiscal troubles might lead us to pursue inflation as a strategy to dealing with it. that's a legitimate concern given what folks have done around the world in the past. but i want to point out that will not work well for the united states. on the spending side, we have an enormous number of spending programs, social security being the most obvious, that are indexed. there is a one-for-one increase in our spending and that's also

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true for medicare and other programs. increasingly, we started issuing inflation index debt. we have treasury index four protected security, who's in -- whose inflation will rise. -- his index will rise if inflation takes off. it is short term and it could go down because of surprise inflation but the market will charge a premium interest rate and say you fooled us once but we will charge you a higher rate on your three-year bonds. in practical terms, inflation is not going to be an effective strategy, even though it may be a legitimate concern to some folks. >> thank you. we do expect, according to the cbo score, interest on the public debt last year was $170 billion. they are projecting in the 10th year of this budget and $800

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billion annual interest payment. hugely significant as to how much that would actually be in the out years. thank you. >> thank you. >> thank you for your testimony. professor reinhart, you know that government debt tends to soar in the wake of a financial storm. that is often a result of a drop f4rr the fall of 2008, confidence worldwide was shattered.dence the stimulus package played an

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enormous role, not just the stimulus package in the united states, the stimulus packages that went into effect in different orders of magnitude in restoring confidence. you pose a very difficult question for me to answer. i do think that absent a stimulus, i cannot quantify or give a counterfactual as to the student -- as to the stimulus would have been worse. our gdp declined relative to declines in other severe financial crises is smaller. our unemployment increases are close to the average, but are still below average. i would have to imagine that given the magnitude of this crisis, which we have not seen the likes of since the 30's because of its global nature as

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well, absent those actions, we would not be below the average in growth declines and unemployment increases. we would be doing much worse. >> for me to restate that, although you cannot prove the counterfactual, it's possible we could have had the same levels of debt but no signs of the recovery that have been created partially by the stimulus or that we might have even had lower-level of employment and had additional current year deficits, which would be the worst of all cases. >> which is why i tried to highlight the japanese experience in that regard. japan, in the mid-1990s, assuming the crisis was over withdrew stimulus, so i'd double dip, and wound up with the worst of two worlds.

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it is important to remember japan's debt, which today stands at about 200%, was around 70% of gdp before the crisis started. they wound up with both. >> thank you. prof. johnson or mr. marron, with either of you like to comment? >> i would give this to military positive assessment. i'm not a fan of stimulus in general. by think this was a very unusual set of circumstances and i think it saved jobs and prevented damage to potential output you would have seemed otherwise. the price of confidence was global and everywhere. the stimulus was an essential part of leadership in turning world economy around. remember the g-20 summit in april where president obama took a very positive brought role and brought a lot of companies with him in recapitalizing the imf

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and also help to rebuild confidence. that would not have been possible and would not have been credible without the u.s. fiscal cent -- that the u.s. fiscal stimulus. i don't again would have been higher in the short term if we had not been a stimulus, but the medium term prospects would have been much more bleak for this country. the medium term budget issues are mostly, not entirely, about medicare. that's a longstanding problem we have not got around to addressing even though it has been in the cards for a while. that is driven by demographics and the rising cost of health care. i would say in contrast to other countries, they're almost all in the same place, they just don't recognize it. the european commission is counting and they are much less obvious than the cbo cost accounting.

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we're looking at getting growth back on track, preventing the destruction of potential output is very important and helpful, so the stimulus was worth doing. hopefully it will help us tackle the medium term problems. >> i had a bunch of other questions and i am running out of time. >> the standard model and that the cbo uses to analyze the stimulus have technical multipliers that would imply a stimulus does not pay for itself. the choices that you end up with more debt as dr. johnson suggested but you also get economic bang in the short run and there's a tradeoff. >> thank you. you had noted that uncertainty is a problem and you mentioned establishing the estate tax. what about the rules of the road in general? prof. johnson noted we had not addressed credit defaults swaps and proprietary trading,

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derivatives, leverage, many of the risk factors that were inherent in completing the trio here -- professor reinhart noted that following financial crises, there are problems with output. this is the rules of the road for a financial community that does not result in high risk taking followed by a collapse. how important is that we get the rules of the road back in place to address these risks with our financial structures? anyone who would like to jump in on this, i appreciated. >> it is fundamentally essential. the problems you just laid out are all wrapped up in what happens if there is another financial crisis? what if major financial players have failed? how does that add to the system? if it's a big enough shock, you could be called upon to use

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automatic stabilizers are a good thing -- but the problems you identified are fixable, they're not being fixed, they must be fixed for at a responsible budgetary point of view. >> in your written territory -- your written testimony, you addressed europe and greece and so forth. the argument that the stress test we put our banks through has not been -- was not i high- level stress, if you will. if we do not prepare for that, we may have another wave of stress coming that could result in a second financial crisis. is that a fair summary? >> yes. the financial system is undercapitalized. the stress tests or not enough. they were not that stressful. i don't think we're facing more financial collapses, but we're facing banks that do not have big buttresses against bigger

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losses. you'll see a tighter credit conditions throughout the united states and this is a global side -- a continuing weakness in the consumer sector. >> i am out of time. >> because others have gone over and because of the attendance we have because of the weather, i think you should feel free to use another two minutes for 2 1/2 minutes. senator white house, i would do the same for you. >> thank you. >> the issue is that we need good rules and if possible, it would be good to get good rules sooner rather than later so that everyone can begin to plan with -- plan with the new environment looks like. i emphasize there are a lot of policy uncertainties hanging over everyone at the moment that makes them difficult for them to plan. some of them in both the previous administration and current one, where it -- we fell

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back on a lot of discretionary government actions. there was confusion about the role of park and other things. those may have been necessary in the heat of the moment they have created doubts about how we run the system. in clarifying that and clarify ways for firms to behave -- for firms to behave appropriately is a very important. >> we face two issues -- the challenge in the commercial real-estate world that will be coming up. it is here now but will continue over the next year or two. the second is undercapitalized community banks and their ability to do additional lending. on the community bankside, i have proposed in the administration proposed recapitalizing banks to enable them to do more lending to small businesses and unable those firms to recharge the economy. on the commercial real estate side, i have heard very few ideas for how we address the challenges folks are rolling

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over balloon mortgages but trying to do so with a drop in the value of their assets and decreased cash was due to tenants and have lost during the recession. should we pursue strengthening community banks to lend more to small businesses and what we do about commercial real estate? >> the issue of recapitalization, i think helping banks recapitalize should come with a carrot and stick approach. one of the concerns i have about the way we have gone about addressing the toxic loans is that it is to japanese. meaning it is too much for parents. i think if -- to much of forbearance.

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that's very important for lending behavior going forward, if you feel you have a lot of bad debt overhang, it will be reflected in your lending practices. that's the lesson i have taken from the very long japanese experience. even helping the banks that lend to small business recapitalize, a proviso toward more capital write-downs is important. >> thank you. commercial real estate? >> i think commercial real station left to itself to sort itself out. unsympathetic in about trying to recapitalize community banks -- i am sympathetic about trying to recapitalize community banks. it will be worried about the signal their sunday, but i would be surprised if we could run a program begun to have a macro

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impact, unfortunately. >> final comment? >> building on the uncertainty point, the other issue for community banks is to what extent there are strings attached. that may discourage them. >> thank you very much. >> thank you, senator, excellent questions and interesting responses. >> thank you. thank you to the witnesses were being here on this challenging day for travel in washington. we are caught between this is your blades here of on the one hand wanting to support the economy so people are employed and we can begin to have the nascent recovery we're seeing work for everyone and not just ended years.

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on the other hand, having the overhang of debt that has dominated our discussion today. it strikes me that where we have a very significantly degraded or in the structure, in rhode island, for instance, we have a bridge to what are the major cities that carries highway 95, a major national artery. it's under a weight restriction said that they have to take a route around it. that will have to be fixed sooner or later. we cannot have that. getting worse and not better. there is a bypass in providence at the department transportation is refusing to put any more maintenance money into because it is so degraded and needs to be replaced.

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it is very hard to get those jobs than -- jobs done. does it make sense to focus on the old-fashioned theories of, if you are going to have to fix it anyway, it's not really adding to your dad and the proverbial stitch in time saves nine, when you do it more quickly, it tends to reduce the overall cost to focus particularly intently on degraded and in the structure that will have to be repaired sooner or later anyway as a way to increase employment without adding to the nation's overall actual liabilities? >> the remarks i'm going to make have to be taken with a grain of salt because they weigh heavily with the experience of one country. in the structure spending is at

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the forefront of the japanese stimulus plan. the streets of tokyo were paved every other week. it does add to that. >> of the streets of tokyo don't have to be repaved every other week. if you are creating make work,@# prevail? or does it when you are dealing with truly irreplaceable necessary and the structure like bridges that are condemned?

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>> if we're talking about things that need to be replaced, the subset of the more general proposition of in the structure as a way to go forward in terms of channeling, which is what my remarks were addressing, in the end, anything, be it in the structure or be it a transfer, it does impact that. -- it does impact debts. i cannot discriminate across types. they just add that. >> done we have a defective accountability, for accounting

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in an all in way, who -- if i were budgeting and it was my house and had a hole in the roof had been together a family budget, i would put in there that i had the sixth hole in the roof. whatever the cost, i would put it in, even if it was five or 10 years, if i had to put something away to cover it in the meantime -- >> i understand and i take your point, but i would just add that we should go toward looking at any activity as activities that do have that consequences over the short run. >> i have used a lot of time on that question and would like to shift to another. since it is just the two of us, -- >> i will give you some additional time. >> i would look at the cbo's scoring dan the advantages of

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payroll taxes over infrastructure spending. second, your point about having a proper capital budget is essentially right. one way to think about that in the context is toll roads. we should be discouraging things are bad like ingestion on the major roads. as somebody who is unhappy user of an easy pass scanned tag on my card, and this is not a federal issue, but if you move people toward a system where they are paying to use roads that are more expensive to maintain, that will help address the issue and raise revenue for specific issues which are much broader than rhode island. >> i think -- i agree with you on the theory. if you could end of fighting she would have done anyway and move them up, that's incredibly logical stimulus, but there are some is in there.

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the first is the have budget discipline that says if i spend an extra million dollars today, i literally will come at myself to spending a million dollars less in 2013. you know how highway funding works. that's a hard discipline to institute. the second concern is that in our political system, this is the mean and flip a diversion -- -- a mean and flippant version -- our system requires us to fund 435. this theory yet described maybe true for a handful of projects -- >> the theory is true that the politics make it hard. >> yes. >> let me jump to health care. you have said twice that medicare is a big item.

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i'm not disagreeing, i just think it's important we look at this. medicare is a big item. according to a variety of different sources, the amount of waste, duplication, excess cost, and efficiency in the health- care system runs between $700 billion and a trillion dollars a year. we have ways to get at that, but as cbo has testified, it requires a certain amount of flexibility and experimentation. it's a continuing management problem to work your way through it and it requires providing the executive branch with some tools. but i happen to believe significant savings can be achieved that way. when they are, they are achieved in a beneficial way. it's the extra test you did not

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need. it is the hours in the hospital waiting for your paper records to get there and having tests redone in an emergency. it's all the clutter and clumsiness of our existing health care system. what i worry very much about is if we get into a physical condition, statutory commission, it gets very narrow and is given a very urgent charge because it's an urgent problem. if you do not have people who understand the possibilities to understand taking advantages of the efficiency gains in health care system, and they're hard to quantify -- cbo cannot quantify them effectively -- you can not quantify it because it requires executive administration to make it succeed and they cannot predict that. but it worries me that we are

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laying out an incredibly easy short cut for fiscal hawks to take hold this thing and say i can document we will have real savings in the medicare system if we just throw these people off the system. the pressure to do that becomes irresistible because we have whipped up a great panic about the debt and given people only understand those jewels decontrols over this expedited, high-powered system. i think that would be a terrible, terrible mistake. when you look at a system as wasteful and complicated and grotesque, more doctors are paid for doing more procedures rather than out of, everywhere you look at it, the system is somewhere between $700 billion and a trillion dollars in waste and excess cost. how do you go with that in the time frame? let's say it takes four or five years to deal with it. how you relate that in two --

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how would you relate that to the urgency of the fiscal that given the primacy of the medicare problem and that this will that equation? -- and that fiscal that equation? >> the fiscal situation we're worried about here is something that approaches this over the next decade or decade and a half. but we are fortunate and we should look at countries in europe that are now is set by the financial crisis, particularly in blood. they have a decade or decade and half. -- particularly in england. they don't have a decade or decade and half. >> the date the efficiency gains could be somewhere between $700 billion and a trillion dollars a year? do you think we can get it out question but i'm not an expert, so i would not want to comment.

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>> that is systemwide and not just medicare? >> some process of rationalization would make sense. also, i'm sorry your colleagues have left, but passing an unfunded prescription medicine component to medicare under the bush in restoration was unfortunate in this context also. they're going to be some very tough choices about who gets access to what kind of care. the big difference between our projections and yoursçó are expected cost of technology will change for treating patients, which has been very much the same across the u.s. and other industrial countries. we are more honest about it. europeans only take into account demographic changes. there are very tough choices at and i'm not on the side of saying throw people off medicare.

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i think that is acceptable. but the budget issue we cannot duck forever. >> i have gone well over the time and i think you. >> -- i thank you. >> let me just say to the gentleman from a profile of that i believe the rest is the flip of what you see. i believe the risk to medicare and social security recipients is a failure to act in a timely way to deal with the long-term debt trajectory that virtually every expert that has come before this committee says is unsustainable. that is, as i look ahead, i am the beneficiary of social security. i lost my parents when i was young. social security helped me through college. i have seen it in the lives of my family and i have seen that care in the lives of my family. i have seen it in the lives of my constituents. my great fear for the very

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positive things those programs do, is that our failure to act to deal with the long-term trajectory is what really threatens them. that is my belief. >> mr. chairman, i cannot agree with you more. i think we have a window of time, as the witnesses have said, we're fortunate. we have a window of time. the wolf is not fully at the door right now. the fiscal my aides do not have to come up in an emergency way you are suggesting. the will have to if we do not get ahead of this. we have lost a year in this administration already before we can deal with this and that fact is agonizing for me. while we are in this window, we

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should be focusing relentlessly on that while we can because that is the tool that evaporate as it gets closer. the fiscal might will always be there. you can always throw people off programs and shut them down. it would be a human tragedy to do so and we can avoid it if our responsible about delivery system reform in the time we have. >> i agree. delivery system reform that for some reason got no attention in this debate on health care. yet every serious expert that came before us told us it is the single most important thing. frankly, i think the media have done a grave disservice to the american people for chasing every red -- chasing every rabbet of an issue that matters very little to dealing with that -- dealing with what has to be done. i'm largely pointing the finger of blame on network media that

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has a minute and half for a story and never has a chance to explain to people what are the things that really matter to this debate? instead, they obsess of things are a complete side issue. that has been an enormous disservice to the american people. i would also blame ourselves for not -- for not doing a good job of coming back to what really matters. it is the delivery system reform that every serious expert that came before us said is the number one opportunity to get costs under control. it is almost no wear in the debate. instead, it is death panels and things that don't even exist and get the attention. if i could, let me go back to the question of where we are.

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you testified once we get to a debt of 90% gdp, that has and adverse affect on economic growth of roughly 1%. is that correct? >> my calculus tells me that we will hit gross debt to gdp of just over 90%. if we stay on the path we are on, that will continue to rise with no policy changes, no policy changes to 97% in 2012 and then start coming down very, very gradually. almost imperceptibly. according to your research, we already face the consequences of reduced economic growth in the future because of debt levels today. would that be a correct interpretation of your testimony? >> that would be a correct interpretation. i try to highlight that in my

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remarks and written statement that while the plan should not necessarily start today because of weakness in economic activity, a conception of a clear plan to reduce the debt would be or should be @@@@#@ @ n @ @ @ @ @ @ @ what i have heard the three of you say -- very clearly, you would not take immediate steps to reduce deficits and debt because of the risks it could

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create to a double dip. what i have heard each of you say is that you do have to put together a credible, long-term plan to deal with the debt threat. if we do not, jury of the country going forward. is that a correct restatement of the testimony? >> if i could clarify, my position would be falling what is the imf practices, to focus on next government debt. the numbers would be slightly lower than yours. >> we should say for people who might be listening, when i talk about gross debt, and talking about the debt owed to the public plus the debt owed to the various trust funds of the united states.

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i use that figure of gross debt because in a budget context, that is what matters the most. all of that debt has to be serviced and serviced out of current income. economists like to look at what is called publicly held debt, which is a lower percentage, in a 60% range of gdp, because they look at the effect of government borrowing on the public sector. >> general government would push it higher toward 80%. the imf position is that all industrialized countries to face a similar situation. new taxes or revenue between 4% and 8% over the medium term. that's my position which is not inconsistent with the spirit of what you're saying. >> i cannot speak for senator

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gregg, but he and i have gone on this effort to have a commission because we have been convinced that you have got to have an overall plan. when that takes account of where we're headed in recognition that dr. reinhart's research is accurate and as you add that, you fundamentally weaken economic growth. let me go to the next point, if i can, and we're going to come back -- i will stop and recognize him next because he has not had a round. as we look ahead to this medium and long-term plan, spending has got to be adjusted, and yes, that means shall security, medicare -- social security and medicare have to get on a lower growth trend. it has to be because that is where most of the spending is.

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i also think the revenue side cannot be exempt. we have the lowest revenue of shares of gross domestic product in 60 years and the highest spending at a share of gdp in 60 years. so we have the lowest revenue, the highest spending, i don't know of any logical conclusion that you don't have to deal with both sides of the equation. that goes to the question of what should the balance beat? i would like each of you to answer this question -- going forward, in the longer term, should most of the emphasis be on the spending side, should most of the emphasis be on the revenue side, or what do you think the appropriate balance should be between spending and revenue? contributions to dealing with this long-term debt. dr. reinhart?

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>> i think both the spending and revenue side have to be addressed. i had mentioned in my earlier remarks that looking at what canada did it would be useful. nose down with a downturn. -- no stone was left unturned. unemployment insurance, decisions involving retirement age, and of course, the revenue side as well. when one is dealing with gaps that we're dealing with right now, even abstracting from the cyclical component that is very big right now, you cannot leave any stone unturned. >> but less you bend the curve

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for medicare -- unless she bends occur for medicare, that is first and foremost. >> that the 800 pound gorilla. >> absolutely. and it's a very unfortunate thing. it is perhaps more about ethics and economics to decide what to do there. that's a very hard social conversation. but taxes, you have to address that. this is a fantastic country. it is based on a thin and fragile tax base. if the united states wants to be one of the leading powers in the world, i see any alternative but tax reform. i would emphasize what dr. marron did before -- our tax reform group and we have not redesigned this in a long time and not try to think about what do we tax to discourage, rather than taxing income, which will allow people to earn. we have to address the low private savings rate. witnesses them where people don't feel they have to save and

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as a counterpart to our foreign borrowing. when they haven't talked about today as we finance so much of the budget deficit by borrowing from china and the chinese government. it makes no sense at all in geostrategic terms. even if you address and we come up with a strong fiscal framework, you still have the current account issued a low private sector savings. and as you wish for the united states to slip into the right of second-rate powers, that has happened to many countries in the past. >> i could not agree with you more. if this fiscal commission does its work, one part of it should be fundamental tax reform. we have a tax system that is an efficient and by that, i mean a high percentage of what is owed is not being paid. we have incredible leakage

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through offshore tax havens. if anybody doubts that, go punch in offshore tax havens and sewage you get. google that and see what you get. we also have a tax system that was never designed for the time we're in. it was designed when america was completely dominant in the world and we did not have to worry about our competitive position. we have a tax system that now this incentivizes savings and this incentivizes investment. -- dis-incentivizes investment. it's almost an upside-down system, given the circumstance we're in today. dr. marron. >> the first point is a budget process in terms of where should the emphasis be on taxes or spending -- we are in a situation where it's going to be

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difficult have an intelligent conversation about that. if there is one view that has taxes expiring, -- as you saw on the recent cbo report, if you add them up, the difference is three percentage points of gdp in 2012. i'm not going to have an answer of which one is right or wrong, but politically it's hard conversation to have intelligently because people will differ in what they choose. in terms of substance, the basic story is, once the economy is on a recovery path, what happens every year is spending makes the situation worse because it grows faster than the economy and tax revenues make it better because they grow faster than the economy. it has to be the case that spending is going to get more of the emphasis than the revenue side because they're growing faster and that is what is causing the challenge. but if you look ahead and ask and we go back to a historical 18% of gdp tax level and finance

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types of things are government and society appears to want our government to do, my answer to that is no. the arithmetic does not add up. that finding a way to raise more taxes in the future seems inevitable given introductory whereon. if you are going to do that, scaling up our existing tax system is not an intelligent way to do it. as you just described, what you want do is revisited and ask what that system makes sense the economy we have today, if we have decided instead of 18%, we're going to raise 20% in terms of tax revenues. >> thank you for calling this meeting. i think this discussion is critically important to our committee and to our country. thank you for doing this. i welcome all three of our witnesses, particularly dr. reinhart, but i thank all three before your testimony.

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the bottom line is, what are we doing about the standard of living for people living in our nation. i know we cannot rewrite what happened in the past, but we need to understand and learn from our mistakes. i find it inexcusable that when we had a growing economy, we still allowed the dead to go up. there was no excuse for cutting taxes and increased spending without paying for it. we had a booming economy. dr. johnson's point about savings, when our economy was performing the strongest in the world by far, when we were a leading indicator on every good economic indicator you want for america, during the 1990's, into 2000, then defined our savings ratios during that time to be among the worst of the

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industrial world, and we said that's ok. we have to worry about saving because americans are saving because they're getting the value of their homes increasing by a dramatic amount. then to find out what happened to the value of our home, we need to learn from the mistakes we made when our economy was growing. it is the mismanagement of debt and the failure to enact policies that encourage savings. many of us, including the chairman, tried during that time. i was proud of the work we did on the house side to try to focus on policies that would increase our national savings. we did not do what we needed to do. now we're in a recession. so now it is difficult to get attention to reducing the debt or cut spending or increase taxes when you are in a

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recession, or it's difficult to develop policies for americans to say because you want them to spend when you are in a recession. my concern is, as we look at how we're going to deal with the national debt, and the german's commission is by far one of the most credible proposals to address focus on national debt and had to deal with it, i am concerned the focus may be short term rather than long term. because we're in recession. we to grow and create jobs and spend. we need to make taxes less burdensome. but that may not be in america's best long-term interests. certainly allow the debt to increase and deal with the issues the chairman raise about tax policy that encourages savings. i know my friend, senator white a space house -- center white

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house raised -- senator wh itehouse raised. to reduce the costs america and reduce the federal government cost costs so that we are reducing health-care costs and reducing the budget. my concern is if you look at health care costs solely in light of the federal government's budget and say we have succeeded if we can reduce the entitlement costs of the federal government. we do not look at it as to how much seniors might be asked to pay. we don't look at as to how much businesses might be asked to pay. we don't look at it in the context of what individual workers are going to be asked to pay. at the end of the day, we might be weakening the economy, strengthening our federal

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government budget commitment as far as reducing cost. reducing our economy, certainly reducing the standard of living for people in this nation. i have a concern as to how we focus today in a recession and focusing on how to get and what our debt. we're all saying the right things, we want to bring the debt down and increase national savings. but what to increase the standard of living for people living in our nation, but if we tunnel vision this health care debate in to the federal budget and don't look at health care costs as growing, long term, we're doing a major disservice to the people are country. how do you put this in context? how do you deal with the current recession? how do you deal with the current crisis americans are facing and still allow our economy to grow

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and deal realistically with the problems americans are facing, of whether a small business owners trying to maintain health insurance for employees or a senior is struggling to decide whether they can afford madison this month for workers find themselves falling further and further behind, when they look at their payroll and look at how much might have to spend on health care, they are wondering what happened during this prosperous time and why should we trust you now to get this right when you didn't do a when the economy was growing -- didn't do it when the economy was growing? >> my view is if you create a fiscal commission with everything on the table and people regard that as being a credible step forward, which i think they would if it came with the right framework, that gives you the scope in the short term

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-- >> if the commission's charges to deal with the federal budget deficit and we are in recession when this commission is required to issue its ruling, how does it overcome those two major obstacles to the long-term issues that you raised on the tax code, for example? >> the good thing about being the united states in our current position in the world, we have the only reserve currency. the euro is seriously under pressure. this gives us time. it means, to go back to the german's mask, we will be able to run up more debt -- the chairman's comment, we will be brought word that are unsustainable tax base. we have 10 or 15 years, maybe

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the budget, we have 20 years to confront those issues. the fiscal commission's mandate would not be to slash the budget now. it would be to get the budget on to a sustainable basis and take it on according to cbo projections. will allow us to -- >> i am not sure we have other options. i'm not sure there are any better suggestions that have been made. all i can tell you is a lot of us worked on the savings issues and we did not have a lot of support out there to try to do things to bolster national savings. we got some things done, relatively minor when you look at the overall problems that a nation. it was not easy getting that done. i just hope the political will will be there to deal with some

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of the fundamental issues that have been raised here. when you start looking at we shouldn't be talking about how much revenue to raise but how to raise its, -- how to raise it, i happen to believe our tax code does need major revisions of lead to rely more on consumption-based revenues and we have to do it in a progressive way. i will be interested to see whether the type of political support -- dr. reinhart? >> i would like to address the issue you raised that in good times, our policies have tended to be pro cyclical, namely in good times, there are two things the government can do. can save during good times directly and that it can create incentives for the private sector to save. during the last boom, we did not

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do either. i think the role of the commission to ensure during boom times, we did not congratulate ourselves too much. the seeds of the next crisis are sown during the boom. that's when over spending has this directly to ending -- tended to take place. i do agree that -- i said earlier, no stone left unturned, the tax code, this is also simon johnson's point -- we need to address the issue of low savings rates and dependent on borrowing from abroad as part of the medium term issue. one last comment i have is i do not know that we do have 10, 15, or 20 years. we just do not know.

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the sooner we can articulate a plan -- you raised the issue of uncertainty -- people today, if the debt is perceived to be growing out of bounds, that will create uncertainty not only about future investment, but what people expect as to future benefits. so a credible plan cannot be articulated. >> thank you. i would just say this to my colleagues. i have just gone through an exercise to get the deficit down to 3% of gdp by the fifth year of the budget and to balance by the end of a 10-year budget window. i've just gone through that exercise. i ask all of my colleagues to go through that exercise before we get into our budget negotiations. i think you will find it as

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sobering as i have i think you will find it as sobering as i have. what it really takes, in 10 years to get the balance, on a very modest downward trajectory of deficits and debt to gdp. it is very sobering. when we go to the question of political will, what is going to be necessary to get this under control. that means to get back down to 60% of gdp. by publicly held basis. -- on a publicly held basis. it is very sobering. senator sessions. >> that is an insightful challenge to us, mr. chairman. i think you are correct. i would just share a few thoughts that -- i think we have

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to light a treatment to the wasteful spending now. contain spending now that is not producing much for the economy. the $800 billion for medicaid, welfare, many things that need to be strengthened, but the extent of it was so great that we have not had enough emphasis on job creation to pull out of this. i would just ask you to think about how will we pay back $800 billion? the president proposed at the state of the union, saving $15 billion this year and that might amount to two under $50 billion over 10 years. that's a lot less than $800 billion.

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now we're talking about another stimulus package. these numbers are so large that you cannot spend today in an unlimited way. we will pay this back one way or another. going to be a burden. my democratic colleagues have to recognize that we just cannot ignore the year that we are in and the next year as if we are in this severe recession and therefore all the rules don't apply and the money we borrow is not going to be a burden on us. will be a burden. -- it will be a burden. dr. reinhart, i would like to follow up with your comments and that of the chairman about the amount of debt that we have. maybe all of you discussed this generally, between the internal debt and the public debt. would you not agree that 30

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years ago, 20 years ago, there is a bigger difference than there is today because we did not see quite the dramatic actuarial and soundness of our entitlement programs? . .

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>> a lot of these other hidden debts need quantification. along the way. it just so happens that gross debt is something that we can measure more readily and more transparently than some of these other explicit or implicit liabilities that we have.

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>> senator those who are listening i think it's a hugely important point you are making. the publicly held debt. that is the money we have borrowed from the public is at 60% of gdp today. the gross debt is at 90%. the difference is the gross debt that you're referring to includes the money that we owe to the trust funds it's confusing. so it's important they understand that the gross debt. the reason you're focused on it, i'm focused on it is because all the debt has to be repaid. and from a budget standpoint, debt can only be paid out of current income. by definition the only money we have to the social security has

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to come out of current income. so there is a real budget consequence when those trust funds that have been producing more money than was needed all of a sudden flipped and now all of a sudden they are spnding more money in social security and medicare than is coming in trust fund income. that has happened to both those programs today. both are cash negative today. that's why i wanted -- sorry for interrupting. it is so important -- >> i couldn't agree more. >> to understand the implicailingses of this. >> when i came here i kind of ackquiested into the idea that public debt, we'll argue over it as a basis, the public debt, and use those numbers. as i have come to realize the actuarial unsoundness of medicare and social security you really can't do that. of course they do show up, mr. chairman, as you know to be fair, they are showing up on the

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surge of the public debt increase as these bonds that are the treasury executes to these trust funds called. that's one of the reasons is it not, mr. marin, that's one of the reasons the public debt is moving as dramatically as it is. >> right. the debt subject to limit. >> it's beginning to move. transfer. we are having less and less internal debt, i assume, because it's being converted to public debt inevitably as we go forward because there's not enough money to fund social security, medicare without calling the bonds that are out there. i'm just -- would say that anybody you would -- my time's about up. so if any of the two of you who

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haven't commented, i wish you would -- >> just a couple thoughts. you notice whenever i speak of the debt i focus on the publicly held debt which is the notion of debt we need to go play with world capital markets to finance ourselves. it's not because i don't worry about the other ones. when you worry about the other issues, the gross debt understates the scope of the problem from those programs. we have raised money for social security into a much lesser extent for a part of medicare and labeled them as trust funds for budget accounting and adding those up we can have a larger measure of debt. if you take seriously the commitments we have made for medicare for the other parts of it not covered by a trust fund, you have seen these numbers millions of times. here people come in with the $40 trillion number, and $60 trillion number. these guy nantic numbers which are an attempt to measure the overall commitment. i won't call it a debt because we can dial it up and down, hopefully down in the future, i

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think even the gross debt understates just how severe the trajectory is that we are on. >> understates. do you agree with that? >> yes. i think dr. marin said it very well. in addition the conbegin tent liabilities of which we know is there, that doesn't fit our sentiment as all. we have one or two more crises we'll change that methodology. dr. marin, i think is right. don't think of the gross debt as the extent of our problem. focus on the -- focus on the publicly held debt for what you have to sell and find for the market will or will not buy. then you have to look at the projections going forward, including the contingent liabilities. >>ç briefly, the uncertainty tt dr. marin and others have mentioned, i believe a lot of that and throughout the entire economy, throughout the entire financial world is the concern over the debt. would you not agree it creates a cloud of economic growth and

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productivity psychologically as well as otherwise, and that the sooner we get a clear path out of this fix we are in, the better it will be for -- to restart economic growth. >> i think one of the scenarios that i alluded to earlier is one in which if there is no plan for -- containing debt and deficits medium term, i think uncertainty is a enactor -- factor why we get the results that we get. that higher debt levels are associated. >> you are factoring that in. yes.

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dr. johnson. >> i think we should take events of the past few weeks in europe, senator sessions, as a wake-up call. exactly on the lines you are suggesting. you need a fiscal commission, you need it now. if you don't have it, in the second half of the year it is a substantial slow down, which i'm expecting, you room for maneuver. the root doesn't matter. whichever way you want to go you won't have that room because financial markets will become more difficult. that's what the europeans have woke yield back the balance of my time up to. tomorrow they have a big meeting in europe, summit, this is for them is the topic. how do you limit the damage. how do you make the fiscal judgments credible. we don't want to go there. that's raising tax, cutting spending, you don't want to do that in the second half of the year. if the financial markets force you into it, that's a disaster.

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>> do either of the other senators want a second round? senator whitehouse? >> if it's not too much 6 an ordeal -- of an ordeal for our witnesses. >> they are here and ready to answer. >> thank you. dr. marin, in your written testimony you looked at the 11 million households that are under water on their home mortgages and conclude, a, they are likely to default, and b, that that will eat away at the thin capital cushions of many banks. to what extent do you believe that the liability for these mortgages has already been written down by the banks, and would you distinguish between mortgages that have been securitized and mortgage that is are actually held by the bank? >> i don't have a good answer to your first question.

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maybe dr. johnson does. on the second, there are, as you know, some of these mortgages have been secure advertised and have been moved in various places including back on to the federal balance sheets. you have other ones out there held by the banks. the reality is, this goes back to the uncertainty point to what extent have we realized the difficulties we are in. financial institutions still differ in the degree to which they have recognized their losses. some have been more aggressive about it than others. and that that cash continuing uncertainty over the financial viability of various firms is ultimately hard to track this through. >> isn't it advisable to move through that uncertainty as quickly as possible? >> at some level the ends that you want is where everyone honestly appraises what their losses are and moves on in life. the difficulty we faced over the last couple years it's very -- very hard to get people to go through that process. >> go ahead. >> i think the lack of success of the government programs have

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had, particularly the one that's supposed to buy distressed assets from the bank, just haven't got up to stale because the banks don't want to sell. i don't think they have written this down. but i think that the strategy that they have had, been encouraged by the previous administration, this administration, sit on your losses and wait for the economy to recover. that works unless you have a double dip or further losses or more strategic default which i think is, to my mind, what we are looking at here. >> the reason that i was asking that question is that it strikes me we are prolonging the agony by continuing to forbid the residential mortgage holder if they are in appropriate financial circumstances to

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simply go to bankruptcy court and settle their debt the way everybody else does. in fact, i saw a news article earlier today, the mortgage bankers association argues developmently against allowing -- vehemently against allowing regular folks go to bankruptcy court and get that debt settled the way every other debt can go to the bankruptcy court and get settled. i guess it turns out that they may have written down their own mortgage on their building here in washington. because it's a commercial mortgage, they can get away with it. so they are -- they know it's the right thing to do. they know it moves you quickly to a market based solution. then everybody can adapt and move on as opposed to being in this sort of throws and states in which banks are asked now to determine what their losses are going to be mortgage by mortgage and then the nightmare begins for the person on the other end. we don't have a balance sheet that quantifies the nightmare

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for the family that has to put up with this, but clearly it's a nightmare. we don't have a balance sheet that quantifies the loss in property values around that house as it gets forecasted and abandoned and stripped. quantification of what that means in revenue to municipalities that are struggling. there's a whole piece of collateral damage that i think is avoided if we solve that problem. in addition to moving quickly to a market base for those. it's so disingenuous of the mortgage association to be here lobbying against it for regular people when they are doing it with their own darn building themselves. and i would just -- i would be interested in your thoughts on -- wouldn't that be the quickest way to find the bottom. as soon as people could cut to bankruptcy court and have a quick, fair final determination of it, then everything adapts. there's your finality. mr. marion -- marron. >> i'll take a stab.

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i'll confess i haven't thought about chapter 13 in those issues for some time now. my memory is hazy. i'm an economist, i'm going to invoke many. on one hand i'm generally reluctant to do things that are changing the rules in the middle of the game. i'm sympathetic. i may not find it dispositive, but i'm sympathetic to the argument the mortgages were initiated under a set of expectations about what the rules of bankruptcy here. >> over the past year -- >> i know. i'm going to be whatever the many handed right thing is. i'm sympathetic to that. with the passage of time, the emphasis i place on that goes down as we seem -- i don't know what federal program we are on, six, seven, eight trying to address this problem. i no disparagement to the previous administration, current one, and the congress it's a hard problem. it's not surprising it's taken this long. i don't remember -- there is an issue that houses are different than most of the assets that

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normally go through chapter 13 bankruptcy procedures. you need to think about ways -- most of those things are cars, boats, whose asset value is depreciating rapidly. it's more challenging to apply that to housing. you need to figure out a way to do it. over time i have become more sympathetic to the notion that some reform in bankruptcy could be part of the help. the numbers i saw a year ago when i used to think about this more seriously suggested that even if you did kind of your dream scenario on that front. it's still only a relatively small fraction of the homeowners who are facing these difficulties. but would be a portion of it. >> can you think of any other circumstance, ever, in which there are actual market losses that need to be processed through and a system whereby you didn't get to the actual market loss but instead allowed an interested party to be the definer of how much they are going to lose on something with an efficient or effective way of

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finding -- letting the market operate? >> the first part is, yes, i can think of folks trying that separately. the commercial real estate is an example. there are plenty of balloon mortgages under water for which the lenders are doing things lie extending--- extending terms by year. the problem is certainly not unique to residential real estate. at the end you have the second part of your question, then it works well. history does not suggest that it works well. >> clarity is what works well and finding the actual value, correct? >> yes. >> mr. johnson. >> let me ask both of you to answer then i'll conclude. >> i completely agree. your mortgage through bankruptcy makes sense. this did come up last year and defeated by the lobbies involved. that's a problem. these are not -- this is not lifetime inservitude.

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this is a no recourse loan. the more people who default, the more people walk away, the lowerer cost of other people walk away. this will change over time. most of the bankruptcy laws in this country has emerged been response to big debt crisis. this confrontation and crisis. this will change, too. in five or 10 years you will be able to modify first leans in bankruptcy. won't do us good right now, throw. >> extremely briefly, i think when we talk about overleveraged households and financial institutions, restructuring is a viable way of bringing down at least partially that overleveraging. and part of my remarks about forebarons, delaying the inevitable, in the case of banks, and the common -- your comments delaying the inevitable on the parts of households are doing just tha